A Bad Day at the Office . . .
John Hannell, the controller of WidgGig Video Cards, was apprehensive as he entered the office of Tom Ortsmond, president of the company. As John sat down, Tom immediately started firing questions. “John, I’ve just gotten the financial statements for this month and there is something I would like to know about. The gross profit rate for our WidgGigs came in at 54.7%; the budgeted gross profit rate was 62.4%, a whopping unfavorable variance of 7.7%. We missed our budgeted profit before taxes rate by only 3.2% so this ghastly unfavorable ‘miss’ in the gross profit rate more than accounts for our profitability problem. Our total sales were pretty much what we budgeted for. As far as I know, our costs and selling prices were pretty much in line with expectations. What is going on here?”
John, sweating a little, responded. “Tom, you are right about sales, costs and pricing being in line with the budget expectations. I guess that we must have had a little problem with the mix of WidgGigs that we sold last month; you know, Tom, some of them are less profitable than others.” Tom’s face darkened a bit as he gasped, “You ‘guess’? John, this hardly seems like a ‘little’ problem. Can you be a little more definitive? We spent months developing a Product Sales Budget and, I must say, almost sent our poor product line and regional managers into nervous breakdowns with the level of detail that they had to provide. Is the answer that some of our WidgGigs are less profitable than others supposed to be enough? What can I possibly tell the Board of Directors that they will understand? They haven’t a clue about what the word ‘mix’ even means. They will want some kind of answer with more exactitude than that. They will demand to know which of our WidgGig product lines and regions might have a problem.”
John, now having an anxiety attack, started to get up from his interrogation. “Tom, I’ll just have to review the Product Sales Budget so that I can try to see where there might be some differences. But, you know, that will take quite a bit of time because we have 23 product lines that sell WidgGigs, replacement parts, accessories and software and they are spread across 17 regions.”
“John”, said Tom “…the board meeting is tomorrow morning! I will need answers before then. I must say, John, I can’t seem to see the point in preparing a detailed Product Sales Budget if it won’t tell us what actually happened when we really need to know. Our business is not preparing Product Sales Budgets; it is one of making profits selling WidgGigs and when something is not right, we really need to know about it as soon as possible. Do you understand?”
“Yes,” responded John as he grimaced with a pale face and painfully headed for the comfort of the door. “I’ll do my best.” “Be sure you do, John … be sure you do.”
Does this oft-repeated uncomfortable scene sound familiar to you? Have you been in this unenviable position yourself? Have you repeatedly tried to define just what “Volume and Mix Variance” really means to upper levels of management? Would you like to end this aggravation once and for all? Would you like to get ahead of the curve?
Okay, enough talk. Let's just "do the math" and explore the surprisingly simple algorithm which relieves this management accounting frustration . . . Simple Example